Freeport-McMoran Copper & Gold (NYSE: FCX) has struggled because of copper and gold prices. With such a move down, an investor would wonder if it's a good time to own the stock. The possibility of a quick rally always exists with another stimulus looming but I am still bearish and would look at an income play but not a long term investment just yet.
China Hurts the Stock
It is kind of ironic that investors become scared half to death when China - the world's largest importer of copper, steel, gold, etc. - slows to 7.5% in growth. We are not even a third of that at our highest levels. But when we are used to more this is a global set back and it is something that could be particularly damaging for Freeport-McMoRan. China is its largest customer for copper. The heart of the threat is the sudden impact of stockpiles of copper in China that now turns into an oversupply driving down prices. In its latest quarter, the company shipped roughly 100,000 fewer pounds of copper and 190,000 fewer ounces of gold than in its previous year. Even though the stock has dropped quite a bit and it looks inviting to pick up some shares, skepticism is still a healthy ally right now.
Playing a Jubilant rally?
What could cause a short term rally in 2012 with all this bad news? Well the most likely catalyst would be the Feds jumping in to help out the economy, announcing another round of quantitative easing. If this does happen will it come as a sudden surprise or at the FOMC meeting in September as election nears? Most analysts believe it is going to happen sooner or later. But the way the market has acted lately, it would not surprise me if upside market reaction coincided how surprising the announcement was. Freeport is the world's largest copper producer with over 70% of its revenue from the metal. Both gold and copper will react positively to any form of stimulus like this. With a dividend of 3.7% and a lot of cash, the company looks good besides the slow down.
So is it time to Invest Long Term?
Takeover Analyst wrote an article stating Freeport is on track to solidly improve volumes in all regions of the globe where it is working. From 2012 through 2015 copper production is expected to increase from 2.6 billion to 3.5 billion ounces. And with a $6.6 billion cash flow as well as a low P/E multiple of 8.9x, the company looks like an inviting investment for long term growth. With this fresh in mind, maybe we should also consider the harsh reality of where we are right now. Vatalyst also recently penned an article painting a picture of where we are. Freeport-McMoRan will struggle because the global demand for copper has not stopped dropping. India has an industrial production slump that is hindering prices there. And China - it almost determines the global price of copper by the amount it demands. It can be summed up like this: until the copper market turns around, the company will have a struggle just sustaining business in an environment where metal prices drop but extraction costs increase.
Freeport is boosting the exploration of the areas near its current mines in order to increase production capacity and in turn grow future revenues. In the near term, the company is confronted with higher costs from copper production and lower demands at the same time. So a long term investment may look inviting but timing would be a prudent teacher at this point. When is a good time to get in?
(click to enlarge)
The Options Play
The stock looks like a short term bearish play. Long term it may make sense to invest in it, although I wouldn't get in right now, it will eventually turn around as gold and copper prices change. But we are going to go with a short term income play following the bearish trend for now. It is presently trading at 34.53.
- Buy a November 2012 put with a strike of '34' (priced at $3.10)
- Sell a November 2012 put with a strike of '33' (priced at $2.55)
- Net Debit to Start: $0.55
- Maximum Profit: $0.45
- Maximum Risk:: net debit
- Maximum Length of Play: 5 months
Reasoning behind the Trade:
- No short term catalyst will turn it around.
- Copper prices remain depressed and this will depress stock prices.
- November gives us enough protection against a short term rally.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
